Reinvestment Allowance — Qualifying Projects and Why Claims Fail

Reinvestment allowance fails on audit far more often than it is refused up front, and almost never because the money was not spent. It fails because the company bought the right asset for the wrong project. A machine that packs finished boxes into cartons is a real machine, really installed in a real factory — and it does not qualify, because manufacturing was already complete when the pencils went into the boxes.

That is Example 6 of Public Ruling No. 10/2022, and it is the shape of most RA disputes.

What the allowance is

Under paragraph 1 of Schedule 7A to the Income Tax Act 1967, a company resident in Malaysia that:

• has been in operation for not less than 36 months; and
• has incurred, in the basis period for a year of assessment, capital expenditure on a factory, plant or machinery used in Malaysia for a qualifying project,

is given a reinvestment allowance of 60% of that expenditure. Paragraph 1A gives the same 60% for capital expenditure on an agricultural project.

The proviso to paragraph 1 excludes plant or machinery provided wholly or partly for the use of a director, or a member of the management, administrative or clerical staff. The 36-month test runs to the point the expenditure is incurred — Example 3 of PR 10/2022 denies a company at 32 months.

How much income it shelters

Paragraph 3 exempts statutory income equal to the allowance, but not exceeding 70% of statutory income from that business. Where the qualifying project has achieved the level of productivity prescribed by the Minister, the restriction lifts and the exemption may absorb the whole statutory income.

Paragraph 4A is easy to miss: the statutory income in paragraphs 3 and 4 means statutory income from the source consisting of the business in respect of the qualifying project, not the company’s statutory income at large.

Unabsorbed allowance carries forward under paragraph 4 to the first subsequent year with statutory income from that business. Exempted income is credited to an exempt account under paragraph 5 and can be paid out as a tax-exempt dividend, with a second tier of exemption in the hands of a corporate shareholder’s own shareholders under paragraph 5(6).

The window

Paragraph 2 gives the allowance for capital expenditure incurred in the basis periods for fifteen consecutive years of assessment, beginning from the year of assessment for the basis period in which the first claim was made in the return.

Read that carefully. The clock starts on your own first claim, not on incorporation, not on the first qualifying spend, and not on a date fixed nationally. Two competitors in the same industry can be in different years of their windows.

Two transitional paragraphs then sit on top:

• Paragraph 2B — the PENJANA special reinvestment allowance. A company whose fifteen-year window ended in YA2019 or earlier received a further entitlement for capital expenditure incurred in YA2020 to YA2024; windows ending in YA2020, 2021, 2022 or 2023 received correspondingly shorter runs, all ending at YA2024. That extension is now spent.
• Paragraph 4C — allowance relating to expenditure incurred after the fifteen-year period under paragraph 2B and up to YA2024 can only be absorbed over seven consecutive years of assessment commencing immediately after YA2024. Anything unabsorbed at the end is disregarded.

Paragraph 4B applies the same seven-year absorption limit to balances left at the end of an ordinary fifteen-year window.

What a qualifying project is

Paragraph 8 defines it exhaustively:

Limb	Project
8(a)	Expanding, modernising or automating an existing business in respect of manufacturing a product or a related product within the same industry, or diversifying into a related product within the same industry
8(c)	An agricultural project expanding, modernising or diversifying cultivation and farming, excluding rearing chicken and ducks

Paragraph 9 then defines the verbs, and the definitions are narrower than ordinary usage:

• expanding — an increase of product capacity or expansion of factory area;
• modernising — upgrading manufacturing equipment and process;
• automating — substituting mechanical for manual operations with minimal or reduced human intervention;
• diversifying — enlarging or varying the range of products related to the same industry.

Manufacturing is also defined, and excludes installation of machinery for construction, simple packaging, simple fixing, simple mixing, simple assembly of parts, preservation during transport and storage, activities facilitating shipment, and packaging or presenting goods for sale. Simple means an activity needing no special skills, machines, apparatus or equipment.

Plant and machinery are both defined as apparatus or devices used in respect of, and directly used in carrying out, a manufacturing activity in a factory. And factory means the portion of the floor area used for the qualifying project — with storage space qualifying only where it is not more than one-tenth of the total floor area of that building or extension.

Why claims fail on audit

The activity is not manufacturing. Example 5 of PR 10/2022 denies a company that cuts and welds to customer specification: the activity does not fall within the Schedule 7A definition, so the new workshop building gets nothing.

The asset sits past the end of manufacturing. Example 6 allows the machine that puts pencils into their retail boxes and denies the one that packs those boxes into cartons.

It is replacement, not reinvestment. Paragraph 8.3.2 and Example 26 refuse allowance on replacing worn tools or machine parts unless expansion, modernisation, automation or diversification can be demonstrated.

Storage space breaches the one-tenth test. In Diagram 3 of the ruling, 5,000 sq ft of storage within 75,000 sq ft qualifies. In Diagram 4, 8,000 sq ft within the same 75,000 does not — and the whole storage area falls out, not just the excess. Sales office space never qualifies in either case.

Waste treatment that is not recycled back in. Example 7 refuses equipment treating toxic waste water for disposal; Example 8 allows it where the treated water is reused in producing the same product.

Group asset shuffles. Paragraph 1B disapplies the whole Schedule where the acquirer and disposer are under common control, or where the acquisition results from a reconstruction or amalgamation.

Disposal inside five years. Paragraph 2A deems the allowance never given and adds it back to statutory income in the year of disposal. Disposed of includes ceasing to be used, and paragraph 9 pulls in assets classified as held for sale under paragraph 61A of Schedule 3 — so an impairment reclassification can trigger the clawback without a sale.

Incompatible incentives. Paragraph 7 excludes a company holding or applying for pioneer status, or granted investment tax allowance for a promoted activity or product, for the relevant basis period.

No claim form. Paragraph 13 of PR 10/2022 is explicit: no written approval is needed from LHDN, but the claim must be recorded on the RA claim form and the original retained with supporting documents. Companies routinely claim in the return and never complete the form — and then have nothing to produce when the file is selected.

Paragraph 6 lets the Director General raise an assessment within five years after the expiration of the year of assessment for which the exemption was given, to counteract any benefit wrongly obtained.

Common mistakes

Counting the fifteen years from the wrong start. It runs from the first claim in a return, per paragraph 2.

Assuming the PENJANA extension is still available. Paragraph 2B closed at YA2024, and paragraph 4C only preserves the right to absorb what was already earned, over seven years from YA2025.

Claiming against total statutory income. Paragraph 4A restricts it to the qualifying-project business source.

Including director or management assets. The proviso to paragraph 1 excludes plant or machinery provided wholly or partly for their use.

Treating a general factory extension as qualifying floor area. Only the portion used for the qualifying project counts, and storage only up to one-tenth.

What’s next

Before the next capital budget is approved, write down which limb of paragraph 8 each item sits under and where in the factory it will be installed. That single page of documentation, kept with the RA claim form, is what turns a defensible claim into a survivable one five years later.